We were reminded, since the Greg Smith/Goldman Sachs brouhaha has still not died down, that Benjamin Graham had quite a bit to say about conflicts of interest in Chapter 21 of the 1940 edition of his great book Security Analysis. Remember, as you read it, that Graham always chose every word he used with the utmost care:

“An institution with securities of its own to sell cannot be looked to for entirely impartial guidance. However ethical its aims may be, the compelling force of self-interest is bound to affect its judgment. This is particularly true when the advice is supplied by a bond salesman whose livelihood depends upon persuading his customers to buy the securities that his firm has ‘on its shelves’….

“[T]he sale of securities is not a profession but a business, and is necessarily carried on as such. While in the typical transaction it is to the advantage of the seller to give the buyer full value and satisfaction, conditions may arise in which their interests are in serious conflict. Hence it is impracticable, and in a sense unfair, to require investment banking houses to act as impartial advisers to buyers of securities; and, broadly speaking, it is unwise for the investor to rely primarily upon the advice of sellers of securities.”

So far as I can tell, this passage didn’t appear in the first edition of the book, published in 1934. It seems plausible that Graham added this commentary in 1940, seven years into tougher banking regulation under the Glass-Steagall Act, in order to remind his readers that they shouldn’t let ostensibly tighter rules lull them into a sense of complacency.

To this day, Wall Street firms like to assert that their “Chinese walls” and detailed disclosures cure their conflicts of interest. As Graham knew and as all investors should remember, procedures and disclosures don’t cure conflicts; they merely describe them.

Revising or expanding these conflict-of-interest policies won’t solve the problem. “The compelling force of self-interest” will continue to taint the judgment of those who give financial advice until firms finally, somehow, concede that the only way to cure conflicts of interest is to avoid them in the first place. But that wasn’t part of their business model in Graham’s day, and it isn’t in our day either.

Putting on a white hat can’t keep your hand from turning red whenever it goes into the cookie jar.